UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, DC  20549

 

FORM 10-Q

 

ý	Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
	for the quarterly period ended September 30, 2003

 

or

 

o	Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
	for the transition period from                           to

 

Commission File Number 1-8250

 

WELLS-GARDNER ELECTRONICS CORPORATION

(Exact name of registrant as specified in its charter)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934).

 

As of November 3, 2003, approximately 6,238,083 shares of the Common Stock, $1.00 par value of the registrant were outstanding.

 

 

WELLS-GARDNER ELECTRONICS CORPORATION

 

FORM 10-Q TABLE OF CONTENTS

 

For The Quarter Ended September 30, 2003

 

PART I – FINANCIAL INFORMATION
Item 1.
Financial Statements:
	Condensed Consolidated Balance Sheets (unaudited)
	•     September 30, 2003 & December 31, 2002
	Condensed Consolidated Statements of Earnings (unaudited)
	•     Three Months Ended September 30, 2003 & 2002
	•     Nine Months Ended September 30, 2003 & 2002
	Condensed Consolidated Statements of Cash Flows (unaudited)
	•     Nine Months Ended September 30, 2003 & 2002
	Notes to the Unaudited Condensed Consolidated Financial Statements
Item 2.
Management’s Discussion & Analysis of Financial Condition & Results of Operations
Item 3.
Quantitative & Qualitative Disclosures About Market Risk
Item 4.
Controls & Procedures
PART II - OTHER INFORMATION
Item 6.
Exhibits & Reports on Form 8-K
SIGNATURES

 

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Item 1. Financial Statements

 

WELLS-GARDNER ELECTRONICS CORPORATION

Condensed Consolidated Balance Sheets (unaudited)

 

				September 30, 2003					December 31, 2002
Assets:
Current assets:
Cash				$	776,000				$	782,000
Accounts receivable, net				4,885,000					7,835,000
Inventory:
Raw materials		5,809,000					3,292,000
Work in progress		630,000					585,000
Finished goods		3,443,000		9,882,000			5,118,000		8,995,000
Other current assets				815,000					974,000
Total current assets				16,358,000					18,586,000
Fixed assets, net				2,182,000					2,458,000
Other assets:
Investment in joint venture				752,000					536,000
Goodwill				1,329,000					1,329,000
Total other assets				2,081,000					1,865,000
Total assets				$	20,621,000				$	22,909,000
Liabilities:
Current liabilities:
Accounts payable				$	6,937,000				$	4,384,000
Accrued expenses				339,000					733,000
Note payable				—					1,200,000
Total current liabilities				7,276,000					6,317,000
Long-term liabilities:
Notes payable				4,303,000					8,352,000
Total liabilities				11,579,000					14,669,000
Shareholders’ Equity:
Common stock: authorized 25,000,000 shares, $1.00 par value; shares issued and outstanding: 6,238,083 shares as of September 30, 2003 & 5,583,446 shares as of December 31, 2002				6,238,000					5,583,000
Additional paid-in capital				4,535,000					3,827,000
Accumulated deficit				(1,532,000		)			(1,032,000		)
Unearned compensation				(199,000		)			(138,000		)
Total shareholders’ equity				9,042,000					8,240,000
Total liabilities & shareholders’ equity				$	20,621,000				$	22,909,000

 

See accompanying notes to the unaudited condensed consolidated financial statements.

 

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WELLS-GARDNER ELECTRONICS CORPORATION

Condensed Consolidated Statements of Earnings (unaudited)

 

		Three Months Ended September 30,
		2003			2002
Net sales		$	35,411,000		$	35,266,000
Cost of sales		28,848,000			28,443,000
Engineering, selling & administrative expenses		6,332,000			6,054,000
Operating earnings		231,000			769,000
Other expenses, net		112,000			266,000
Tax expense		14,000			2,000
Earnings from continuing operations		105,000			501,000
Cumulative effect of change in accounting principle		—			52,000
Net earnings		$	105,000		$	553,000
Earnings per share:
Basic earnings per share
Continuing operations		$	0.02		$	0.09
Cumulative effect of change in accounting principle		$	—		$	0.01
Basic net earnings per share		$	0.02		$	0.10
Diluted earnings per share
Continuing operations		$	0.02		$	0.09
Cumulative effect of change in accounting principle		$	—		$	0.01
Diluted net earnings per share		$	0.02		$	0.09
Basic average common shares outstanding *		5,971,839			5,738,739
Diluted average common shares outstanding *		5,985,944			5,835,293

 

See accompanying notes to the unaudited condensed consolidated financial statements.

 

*                 Shares outstanding have been adjusted to reflect the 5% stock dividend declared on February 19, 2003 and paid to all shareholders of record as of April 4, 2003.

 

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WELLS-GARDNER ELECTRONICS CORPORATION

Condensed Consolidated Statements of Earnings (unaudited)

 

		Nine Months Ended September 30,
		2003			2002
Net sales		$	11,744,000		$	11,886,000
Cost of sales		9,712,000			9,616,000
Engineering, selling & administrative expenses		2,073,000			2,109,000
Operating earnings (loss)		(41,000		)	161,000
Other expenses, net		3,000			39,000
Tax expense		11,000			—
Net earnings (loss)		$	(55,000	)	$	122,000
Earnings per share:
Basic earnings (loss) per share		$	(0.01	)	$	0.02
Diluted earnings (loss) per share		$	(0.01	)	$	0.02
Basic average common shares outstanding *		6,034,003			5,751,298
Diluted average common shares outstanding *		6,115,817			5,826,058

 

See accompanying notes to the unaudited condensed consolidated financial statements.

 

*                 Shares outstanding have been adjusted to reflect the 5% stock dividend declared on February 19, 2003 and paid to all shareholders of record as of April 4, 2003.

 

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WELLS-GARDNER ELECTRONICS CORPORATION

Condensed Consolidated Statements of Cash Flows (unaudited)

 

		Nine Months Ended September 30,
		2003			2002
Cash flows from operating activities:
Net earnings		$	105,000		$	431,000
Adjustments to reconcile net earnings to net cash provided by (used in) operating activities:
Depreciation & amortization		391,000			262,000
Amortization of unearned compensation		24,000			17,000
Cumulative effect of change in accounting principle		—			(52,000		)
Share of earnings in joint venture		(216,000		)	(41,000		)
Changes in current assets & liabilities:
Accounts receivable, net		2,950,000			(3,320,000		)
Inventory		(887,000		)	587,000
Other current assets		159,000			(23,000		)
Accounts payable		2,553,000			2,523,000
Accrued expenses		(394,000		)	72,000
Net cash provided by operating activities		4,685,000			456,000
Cash flows from investing activities:
Additions to fixed assets, net		(115,000		)	(46,000		)
Net cash used in investing activities		(115,000		)	(46,000		)
Cash flows from financing activities:
Borrowings (repayments) - notes payable		(5,249,000		)	(632,000		)
Proceeds from stock options exercised & employee stock purchase plan		673,000			157,000
Net cash used in financing activities		(4,576,000		)	(475,000		)
Net decrease in cash		(6,000		)	(65,000		)
Cash at beginning of period		782,000			159,000
Cash at end of period		$	776,000		$	94,000
Supplemental cash flow disclosure:
Interest paid		$	269,000		$	256,000
Taxes paid		$	14,000		$	2,000

 

See accompanying notes to the unaudited condensed consolidated financial statements.

 

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WELLS-GARDNER ELECTRONICS CORPORATION

 

Notes to the Unaudited Condensed Consolidated Financial Statements

1. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments, consisting of normal recurring adjustments, which are necessary for a fair presentation of the financial position and results of operations for the periods presented. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted.  These condensed consolidated financial statements should be read in conjunction with the audited financial statements and notes included in the Company’s 2002 Annual Report to Shareholders. The results of operations for the three months and nine months ended September 30, 2003 are not necessarily indicative of the operating results for the full year.

 

2. On February 19, 2003, the Company declared a five percent (5%) stock dividend payable to all common stock shareholders of record on April 4, 2003.  The dividend was paid on or about April 11, 2003.  Shares outstanding for all periods presented have been adjusted to reflect the five percent (5%) stock dividend.

 

3. Basic earnings (loss) per share is based on the weighted average number of shares outstanding whereas diluted earnings per share includes the dilutive effect of unexercised common stock equivalents. Potentially dilutive securities are excluded from diluted earnings per share calculations for periods with a net loss.  Both basic and diluted earnings (loss) per share reflect the stock dividend as referenced in note 2.

 

4. Effective January 1, 2002, the Company adopted Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets (SFAS 142).” The new standard requires that goodwill and intangible assets with indefinite useful lives will no longer be amortized, but instead will be tested for impairment at least annually. The standard also specifies criteria that intangible assets must meet to be recognized and reported apart from goodwill.  As of the date of adoption of SFAS 142, the Company has discontinued amortization of all existing goodwill. The SFAS 142 transitional impairment evaluation did not indicate any goodwill impairment. In addition, the Company has not identified any intangible assets, which must be recognized apart from goodwill. Additionally, upon adoption of SFAS 142, the Company recorded a $52,000 cumulative effect of change in accounting principle benefit from the reversal of negative goodwill associated with the Company’s joint venture.

 

5. On June 30, 2003, the Company entered into a new three-year credit agreement with LaSalle Bank.  The agreement is a $12 million revolving credit facility, which bears interest at either prime plus 50 basis points or at LIBOR plus 300 basis points, determined at the Company’s election.  The LaSalle facility is secured by the assets of the Company and replaces the Company’s current facility with its previous lender.  The LaSalle facility includes all reasonable and customary covenants and terms typically included in such facility.  The Company is in compliance with all covenants at September 30, 2003.

 

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6. As of September 30, 2003, the Company maintains an Incentive Stock Option Plan.  The Company accounts for this plan under the recognition and measurement principles of APB Opinion No. 25, “Accounting for Stock Issued to Employees,” and related Interpretations.  No stock-based compensation costs are reflected in net income, as all options granted under those plans had an exercise price equal to the market value of the underlying common stock on the date of grant.  The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of FASB Statement No 123, “Accounting for Stock-Based Compensation,” to stock-based employee compensation:

 

		Three Months Ended September 30,						Nine Months Ended September 30,
		2003			2002			2003			2002
Net earnings (loss):
As reported		$	(55,000	)	$	122,000		$	105,000		$	553,000
Pro forma		$	(89,000	)	$	88,000		$	2,000		$	451,000
Net earnings (loss) per common and common equivalent share:
Basic - as reported		$	(0.01	)	$	0.02		$	0.02		$	0.10
Diluted - as reported		$	(0.01	)	$	0.02		$	0.02		$	0.09
Basic - pro forma		$	(0.01	)	$	0.02		$	0.00		$	0.08
Diluted - pro forma		$	(0.01	)	$	0.02		$	0.00		$	0.08

 

Item 2. Management’s Discussion & Analysis of Financial Condition & Results of Operations

 

Three Months Ended September 30, 2003 & 2002

For the third quarter ended September 30, 2003, net sales decreased 1.2 percent to $11,744,000 from $11,886,000 in the prior year’s period.  The sales decrease was attributable to lower sales of the Company’s non-gaming, coin-operated monitors, which was predominantly offset by an increase in gaming sales.  Gross operating margin as a percentage of sales was 17.3 percent, or $2,032,000, compared to 19.1 percent, or $2,270,000, for the same period last year.  This decrease was solely attributable to specific low-margin, cash in advance, opportunistic used gaming device sales recorded during the quarter.  Engineering, selling, and administrative expenditures decreased $36,000 or 1.7 percent to $2,073,000 from $2,109,000 in the third quarter of 2002.  Other expense, net, decreased $36,000 or 92.3 percent to $3,000 from $39,000 in the third quarter of 2002 as the Company had lower interest expense and recognized additional profits from its joint venture.  Tax expense was $11,000 compared to $0 for the third quarter of 2002.  For the third quarter of 2003, the Company reported a net loss of $55,000, or $0.01 per basic and diluted share, compared to net earnings of $122,000, or $0.02 per basic and diluted share, for the comparable 2002 quarter.

 

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Nine Months Ended September 30, 2003 & 2002

For the nine months ended September 30, 2003, net sales increased 0.4 percent to $35,411,000 from $35,266,000 in the prior year’s period.  The sales increase was attributable to higher sales of the Company’s gaming products. Gross operating margin as a percentage of sales was 18.5 percent, or $6,563,000, compared to 19.3 percent, or $6,823,000, for the same period last year.  This decrease was solely attributable to specific low-margin, cash in advance, opportunistic used gaming device sales recorded during 2003.  Engineering, selling, and administrative expenditures increased $278,000 or 4.6 percent to $6,332,000 from $6,054,000 in 2002.  This increase was attributable to additional marketing efforts as well as additional international selling expenses recorded in 2003.  Other expense, net, decreased $154,000 or 57.9 percent to $112,000 from $266,000 in 2002.  This decrease was attributable to lower interest expense and the Company’s earnings from its joint venture.  Tax expense was $14,000 compared to $2,000 during 2002.  During 2002, the Company recorded a $52,000 or $0.01 cumulative effect of change in accounting principle benefit as discussed in footnote 4 to the financial statements included in this report.  For the nine months ended 2003, the Company reported net earnings of $105,000, or $0.02 per basic and diluted share, compared to a net earnings of $553,000, or $0.10 per basic and $0.09 per diluted share, for the comparable 2002 period.

 

Market & Credit Risks

The Company is subject to certain market risks, mainly interest rate risk.  During 2003, the Company entered into a three-year, $12 million, secured credit facility with LaSalle Bank NA, which matures on June 30, 2006.  At September 30, 2003, the Company had total outstanding bank debt of $4.3 million at an interest rate of 4.50%.  The Company believes that its exposure to interest rate fluctuations will be limited due to the Company’s practice of using any excess cash flow to reduce outstanding debt.  All of the Company’s debt is subject to variable interest rates. An adverse change in interest rates during the time that this debt is outstanding would cause an increase in the amount of interest paid.  The Company may pay down the loans at any time without penalty.  However, a 100 basis point increase in interest rates would result in an annual increase of approximately $43,000 in additional interest expense recognized in the financial statements.

 

The Company is exposed to credit risk on certain assets, primarily accounts receivable. The Company provides credit to customers in the ordinary course of business and performs ongoing credit evaluations. Concentrations of credit risk with respect to trade receivables are somewhat limited due to the large number of customers comprising the Company’s customer base.

 

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Liquidity & Capital Resources

As of September 30, 2003, cash decreased $6,000 from year-end 2002.  On a daily basis, the Company utilizes a sweep account to reduce its cash balance to minimize its outstanding balance on its revolving line of credit and its interest expense.  This value will fluctuate based on the timing of checks clearing the Company’s accounts.  Accounts receivable decreased $2,950,000 or 37.7 percent to $4,885,000 from $7,835,000.  This decrease is attributable to improved collections during 2003.  Inventory increased $887,000 or 9.9 percent to $9,882,000 from $8,995,000 at year-end 2002. This increase is attributable to the Company maintaining higher inventory on hand for the Company’s largest gaming customer.  Other current assets decreased $159,000 or 16.3 percent to $815,000 from $974,000 at year-end.  Fixed assets, net, decreased $276,000 or 11.2 percent to $2,182,000 from $2,458,000 at year-end.  The Company’s investment in joint venture increased $216,000 or 40.3 percent to $752,000 from $536,000 at year-end as the Company recognized earnings from its investment. Current liabilities increased $959,000 or 21.9 percent to $7,276,000 from $6,317,000 at year-end, as the Company had higher accounts payable to its vendors, which was offset by the decrease in note payable as all bank debt is classified as a long-term liability.  Long-term liabilities decreased $4,049,000 or 48.5 percent to $4,303,000 compared to $8,352,000 at year-end.  This decrease is attributable to lower borrowings under the Company’s line of credit.  Under its current credit facility, the Company is required to maintain certain financial covenants. While the Company is currently meeting its financial covenants for 2003, its liquidity could be adversely affected if it is unable to do so. Overall, the Company believes that its future financial requirements can be met with funds generated from operating activities and from its credit facility during the foreseeable future.

 

New Accounting Pronouncements

In December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation–Transition and Disclosure” this Statement, which is effective for the years ending after December 15, 2003 which amends Statement No. 123 “Accounting for Stock-Based Compensation” and provides alternative methods of transition for voluntary change to the fair value-based method of accounting for stock based employee compensation. In addition, Statement No. 148 amends the disclosure requirements of Statement No. 123 regardless of the accounting method used to account for stock based compensation. The Company has chosen to continue to account for stock based compensation of employees using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25 “Accounting for Stock Issued to Employees” and related interpretations. However, the enhanced disclosure provisions as defined in SFAS No. 148, of which the Company has adopted.

 

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Forward Looking Statements

Because the Company wants to provide shareholders and potential investors with more meaningful and useful information, this report may contain certain forward-looking statements (as such term is defined in the Securities Act of 1933, as amended, and the Securities Exchange Act of 1934, as amended) that reflect the Company’s current expectations regarding the future results of operations, performance and achievements of the Company. Such forward-looking statements are subject to the safe harbor created by the Private Securities Litigation Reform Act of 1995. The Company has tried, wherever possible, to identify these forward-looking statements by using words such as “anticipate,” “believe,” “estimate,” “expect” and similar expressions. These statements reflect the Company’s current beliefs and are based on information currently available to it.  Accordingly, these statements are subject to certain risks, uncertainties and assumptions which could cause the Company’s future results, performance or achievements to differ materially from those expressed in, or implied by, any of these statements, which are more fully described in our Securities and Exchange Commission 10-K filing. The Company undertakes no obligation to release publicly the results of any revisions to any such forward-looking statements that may be made to reflect events or circumstances after the date of this report or to reflect the occurrence of unanticipated events.

 

Item 3. Quantitative & Qualitative Disclosures About Market Risk

There have been no material changes to the Company’s market risk during the nine months ended September 30, 2003. For additional information on market risk, refer to the “Quantitative and Qualitative Disclosures About Market Risk” section of the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.

 

Item 4. Controls & Procedures

The Company has established a Disclosure Committee, which is made up of the Company’s Chief Executive Officer, Chief Financial Officer and other members of management. The Disclosure Committee conducts an evaluation of the effectiveness of the Company’s disclosure controls and procedures pursuant to Exchange Act Rule 13a-14 as of the date of filing this report.  While the Company has limited resources and cost constraints, based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the disclosure controls and procedures are effective in ensuring that all material information required to be filed in this quarterly report has been made known to them.  As of September 30, 2003, there have been no known significant changes in internal controls or in other factors that could significantly affect these controls subject to the date of such evaluation.

 

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PART II - OTHER INFORMATION

 

Item 6. Exhibits & Reports on Form 8-K

 

(a). Exhibits:

Exhibit 31.1 - Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

Exhibit 31.2 - Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

Exhibit 32.1 - Statement of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

(b).       Reports on Form 8-K:

On August 8, 2003, Wells-Gardner Electronics Corporation issued a press release announcing its financial results for the second quarter and first six months of fiscal 2003.

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

	WELLS-GARDNER ELECTRONICS CORPORATION
Date: November 3, 2003		By:	/s/ GEORGE B. TOMA
			George B. Toma CPA, CMA Vice President of Finance, Chief Financial Officer & Corporate Secretary

 

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